Building-Income

An October 13th, 2018 article in the New York Times discussed how Jared Kushner avoided paying almost no federal income taxes several years running. According to the article, Kushner, who has a net worth of $324M plus, paid little to no taxes from 2009 through 2016. Just by my first two sentences, you can see the slant of the article – how things are tilted unfairly toward the rich.

To avoid paying taxes, the article pointed out that Kushner used “depreciation, a tax benefit that lets real estate investors deduct a portion of the cost of their buildings from their taxable income every year.”

Before we get too far into this post, let me state one thing – I didn’t vote for the current president nor do I like how he’s running the White House. That will be the most political I say on this blog as I’ve tried to be very apolitical. However, I’m going to defend Mr. Kushner’s use of depreciation throughout this post and I don’t want anyone to believe I’m doing so for political reasons. I’m doing it strictly because it’s the right thing to do.

As we get started, let me be clear. The depreciation “tool” is available for every real estate investor, but you must get in the game to use it. Otherwise, you’ll just be standing on the sidelines, wondering how come there are others running up and down the field.

If you’re looking to purchase an investment property, whether it be a residential single-family home or a commercial building, the purchasing process is very similar. While there are some differences between the two processes, I thought they are close enough that I thought we should take a quick run through to get a discussion in place for future articles.

For discussion purposes, residential properties are single family homes, duplexes, triplexes, and quadplexes. Commercial properties encompass everything else including retail, office and industrial buildings as well as multi-family projects of five units or more.

The investment purchase process for both residential and commercial properties looks like this:

There is everyday risk like driving to and from work, school, or some event with our spouse. At any moment, we put ourselves on the road with other people who may or may not be in full control of themselves whether it be from alcohol, lack of sleep, or relationship induced stress. Some of these people are just plain morons who should not be allowed to drive - but they're given a license anyway and we willingly chose to get on the road with them.

A collision could cost us financially from as little as a few hundred dollars to fix a ding to hundreds of thousands of dollars in medical bills. However, we’ve learned to accept and manage this daily risk as we go about our lives.

There’s also the health risk we must accept just being part of the human experience. Genetic health issues may cause elevated concerns throughout our life or they may show up in later years. Poor food choices or bad exercise habits may not elevate our risk immediately, but sustained patterns will eventually result in some sort of health concern. This is risk we either accept or ignore, but it’s there nonetheless.

Yet, even the riskiest adventurers as well as the experts in covert operations have learned to mitigate their risks. They don’t jump out of planes without parachutes and they practice repeatedly so that an actual event becomes second nature.

We can’t escape risk so, therefore, we all must learn to deal with it.

In late 2016, we bought a 10,135 square foot retail building in Deer Park, Washington.

At that point, it was the largest and most expensive building I’d been a part of acquiring. Quite frankly, I was a bit scared that we could pull it off. Up until then, the most expensive building I had purchased with partners was $390,000. The building we were contemplating was almost four times that price. It made my heart race considering it.

However, we believed the building to be well-built, positioned great and priced right. That’s the trifecta when looking at a commercial project.

We made our offer on the building and then conducted our due diligence. My investing partner and I believed in the project, but our partners thought the price needed to be a bit better.

I’m going to rant against some of those in the financial services industry.

You see, I’m a commercial real estate broker who loves the product he represents. My clients can see and hear my enthusiasm when we talk about their needs, whether it be buying, selling, developing or leasing.

A lot of my excitement stems from the fact that I own real estate. I own various types of commercial property. From small retail strip centers, a couple office buildings, a ground leased property and even a couple residential rentals. I love real estate.

It’s one of the reasons I started Building-Income. I wanted to share my excitement for the product. I’m always looking to buy another piece of property. It’s how I’m going to secure my retirement and leave a legacy for my family.

It’s one of the best investment vehicles out there and I wish everyone could feel the excitement I do.

However, there are some in my industry who don’t feel the same way. They take their commissions and run. They buy anything but real estate. If they invest in anything, it’s the stock market or some other get rich quick scheme.

Now, I’m not against the stock market or investing in a business. I’ve invested in both. It’s just that I believe a real estate broker should practice what they preach and put their money where their mouth is.

In May of 2017, a tenant at our Rosewood Retail property moved out. Spokane Vitamin Supply had been in the building for more than forty years.

We had only owned the building for seven years, so we didn’t enjoy their entire run of tenancy. The business had changed ownership at least twice. In our records, there was a transfer of ownership in 1993 to Mr. Smith (not his real name). Then in 2015 the business was sold again to the Williams family (not their real name).

Initially, Mr. Smith was going to close his business instead of renew his lease. He was an older gentleman and didn’t actively run the business anymore. He operated the business as a way to keep a couple employees working since they had been loyal to him for so many years. The employees were now ready to retire which would allow him to shutter the business.

Roughly six years into the ownership of our Rosewood Retail property, one of the partners decided she wanted to sell out. A couple years prior, Bobbi (not her real name) had gone through a divorce and a year later relocated to another state. She was involved in another partnership with us and had chosen to sell her portion of ownership earlier. It had gone very well for her as detailed in The Little Property That Could – A Partner Wants Out.

Now, Bobbi decided she wanted to sell her portion of the Rosewood partnership. After running the numbers, the news wasn’t good.

If she still wanted to sell her 25% stake in the partnership, Bobbi would actually get less money than she originally put in.

It was a tough reminder that an investment property’s value is tied to its net income which is a function of both income and expenses.

As time moves forward, things will change at any investment property. You are incredibly lucky if your tenants stay in place for a multitude of years and steadily pay rent. This reduces the associated costs and headaches of vacancies.

At our Rosewood Retail property, everything proceeded nicely for about two years. Then we were approached by one of the tenants who stated they wanted to terminate their lease early.

The medical billing service was ceasing operations. The doctor associated with the service was joining a larger organization and, therefore, needed to shut down his practice. However, they still had three years on their contract.

When you’re faced with this scenario, it’s an interesting proposition, but an exciting opportunity.

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